How sustainability trends are transforming the investment landscape

As the end of 2017 approaches, Louise Dudley, Global Equities Portfolio Manager at Hermes Investment Management, outlines four prominent sustainability trends from this year that are re-shaping global capital allocation and driving demand for holistic returns.

Engagement recognised as a value creator
New ground was broken when Hermes Investment Management’s stewardship and engagement team, Hermes EOS, recently published a study1 with the University of Göttingen, which shed light on the key drivers of impactful shareholder engagement. The study showed personal, board-level interactions with companies substantially increase the chances of effective engagement success.

Moreover, Cass Business School and LSE recently demonstrated, through their PRI-commissioned research2, how this type of impactful engagement is creating valuable feedback loops between investors and companies. For investors, the research showed this type of dialogue enhances longer-term relations and builds ESG knowledge and accountability. Impactful engagement also identifies and diffuses best practice amongst companies, as well as supporting company employees who are striving to build the business case for greater internal collaboration on ESG issue improvement.

Global Goals to drive powerful demand dynamics
CalPERS’ Sustainability Investment Director, Anne Simpson, recently described the UN Sustainable Development Goals (SDGs) as “a moral imperative, but also an economic necessity”3. For us, the SDGs are not a box-ticking exercise. We work with companies striving to align and improve their business, but also their societal footprint. Our investment approach also taps into the powerful concept of additionality – where businesses help address an unmet or under-served sustainable development need and hence constitute a significant step forward for the attainment of the SDGs.

Factoring the SDGs into our analysis of companies is aligned with some of the core elements of our investment philosophy: responsibility and long holding periods. Our responsibility as investors does not stop with a decision to buy or sell a stock: through constructive dialogue, exercising shareholder rights and engaging when necessary, we endeavour to act as a responsible steward of our investments. Such active ownership is the key to encouraging companies to support the SDGs.

Pension fund commitment: Sweden shows the way
It is engrained in Sweden’s constitution for the public sector to promote sustainable development which creates a healthy environment for present and coming generations. Swedish national pension funds, which jointly manage over $130bn, are poised to get a legislative overhaul which steers them in a sustainable direction.

This means the funds must pay attention to international agreements, such as the SDGs and COP 21, which will affect nearly all individuals in Sweden. This is real foresight. From top-down policymakers to pension fund beneficiaries, we all have a stake in creating a more sustainable future and a fiduciary responsibility. This is our social licence to invest.

EMs takes the lead on integrated reporting
Integrated reporting seems a simple concept: producing one report to encompass internal financial reporting and external impacts. However, the legacy of the separation of financial reporting from external reporting in developed markets has created a stumbling block for the effective communication of ESG and sustainability strategies. In many cases there can be a 7-10 month lag between reports.

This has real implications for CEOs communicating strategy and reporting when they cannot grasp the external impact of their business activities. At the recent PRI in Person conference, it was clear that the leadership baton on these issues is being taken up by emerging markets unencumbered by obsolete bureaucracy around reporting. We hope this will, in turn, agitate change in developed markets.

As we head into 2018 the direction of travel is clear: we, as an industry, need to create an economically efficient, sustainable global financial system that not only creates wealth for investors but benefits society as a whole.

1“Talk is not cheap – The role of interpersonal communication as a success factor of engagements on ESG matters” published in September 2017 by Prof. Dr. Michael Wolff, Dr. Laura Jacobey & Hülgen Coskun from the University of Göttingen